The Australian Dollar continued to slide last week – yielding the worst performance among the major currencies against its US namesake – as shifting monetary policy expectations undermined demand for the high-yielder. The sharp swoon in the AUDUSD exchange rate since the beginning of the month has been accompanied by a brisk narrowing of the yield spread between benchmark US and Australian 10-year bond yields. This implies an Aussie-negative realignment of investors’ perceptions of relative returns to be had from holding one currency over the other.

The markets appeared to perceive last week’s testimony from Federal Reserve Chairman Ben Bernanke as signaling the likelihood of a reduction in the size of QE3 asset purchases over the coming months, reinforcing the erosion of the Aussie’s yield advantage as traders price in a less accommodative US monetary policy stance. Indeed, the aforementioned 10-year spread is now hovering near the lowest levels since early February 2009. Against this backdrop, AUDUSD dropped to finish the week at lowest level in close to a year.

Looking ahead, a limited stock of high-profile US and Australian event risk seem to open the door for a correction. On the US side of the equation, May’s Consumer Confidence report, April’s Pending Home Sales figure, and a handful of regional activity surveys round out the docket. The pickings even slimmer in Australia, where Building Approvals and Private Sector Credit data amount to the only bit of fundamental news-flow to inform RBA policy expectations.

Against this backdrop, the Aussie may find itself without fresh fuel to power the downtrend, allowing for a period of profit-taking to lift prices higher before the larger trend resumes. In fact, data from the CFTC’s Commitment of Traders report suggests that speculators are the most net-short of the Australian Dollar since mid-June of last year, suggesting there is ample room for an unwinding in the near-term.

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